Fast-Growing Brokerage Firm Often Tangles With Regulators

Richard Bender said he lost half his retirement savings because of LPL.

The firm sounds like an upstart Merrill Lynch, the investment house that brought Wall Street to Main Street.

The company, LPL Financial, has 13,300 brokers, 6,500 offices, 4.3 million customers — and a growing list of problems with regulators.

At a time when many big-name brokerage firms are losing market share, LPL executives in San Diego have guided the company out of obscurity to become the nation's fourth-largest brokerage firm — after Wells Fargo, Morgan Stanley and Merrill Lynch — and the largest in much of rural America, where it specializes.

Now, as investors weigh whether to jump aboard the stock market's record-breaking rally, LPL is one of the biggest firms trying to connect them with stocks, bonds and other products. But the low-cost model that has aided LPL's explosive growth has brought with it shortcomings that point to the difficulties regulators face in overseeing far-flung financial advisers.

As LPL has expanded, state and federal authorities have censured the company and its brokers with unusual frequency. LPL brokers have been penalized for selling complex investments to unsophisticated investors, for speculative trading in customer accounts, and, in a few cases, for outright stealing from clients.

"LPL is on our radar screen more than any other firm," said Lynne Egan, who oversees securities regulation in Montana. Last fall, Ms. Egan brought a case against LPL, accusing it of failing to supervise a broker. She said her office is preparing to bring another case against the company, involving multiple brokers.

In the last year and a half, state regulators in Illinois, Massachusetts, Montana, Oregon and Pennsylvania have penalized LPL for failing to oversee its brokers properly. Brokers at the company have faced the most common industry reprimand more frequently than brokers at its large competitors since the beginning of 2012, according to a review of data from the Financial Industry Regulatory Authority, or Finra, the industry's self-regulator.

Executives for the firm declined to comment for this article, but a spokeswoman, Betsy Weinberger, said in a statement that LPL had taken "steps to enhance our overall platform, including investing in our compliance process and oversight capabilities to support our growth. We remain steadfast in our commitment to serving investors and doing the right thing."

Ms. Weinberger said the company increased its risk and compliance budget 5 percent last year and 11 percent this year.

LPL was created in 1989 through a merger of two older brokerage firms, Linsco, of Boston, and Private Ledger, of San Diego. It grew to national prominence after 2005, when two large private investment firms, TPG Capital and Hellman & Friedman, bought LPL and financed a number of acquisitions from California to New York. LPL went public in 2010, and its stock has been up slightly since then.

LPL's rapid growth, and the problems that came with it, reflect forces that are changing the way millions of ordinary Americans interact with Wall Street. Since the financial crisis hit in 2008, prominent firms like Merrill, which long catered to individual investors, have lost brokers and customers.

Many investors have turned instead to independent brokerage firms like LPL. Unlike employees of the industry giants, LPL brokers are essentially contractors. They get LPL e-mail addresses and come under LPL compliance but pay for office space and staff.

For LPL and its brokers, it is a lucrative arrangement. With overhead costs relatively low, the company can pass a large percentage of commissions and fees—upward of 80 percent—back to its brokers. LPL has said that such a model is also an advantage for investors because the company does not have its own investment products, like the mutual funds created by the big banks, that it wants to push onto its customers.

But analysts say that the high commissions leave LPL less money for compliance and can attract brokers interested in skirting the rules. Brad Hintz, an analyst at Sanford C. Bernstein, said that LPL's management had done a good job expanding the company and improving its compliance technology, allowing brokers with high standards to do well. But he said the scattered nature of its offices was an Achilles' heel that exposed the company to lawsuits and regulatory risks.

"If the Indians run off the reservations, you have no one guarding the borders," he said.

LPL's promise, and peril, are evident in Montana. Over the last five years, the company's 31 brokers there have been the subject of eight complaints to the state securities regulators, according to state data. Merrill Lynch, which has 42 representatives in Montana, has not faced any complaints. Two brokers at Edward Jones, a large regional brokerage firm with 90 brokers in Montana, have been the subject of complaints in that period.

Ms. Egan, the Montana securities regulator, said the problems at LPL reflected its unusual approach to oversight. Nearly half LPL's brokers in the state are registered as their own supervisor, while other firms put brokers under a separate manager.

LPL's most serious case in Montana was resolved in 2009, when Donald Chouinard, an LPL broker in Kalispell, was sentenced to 10 years in prison for operating a Ponzi scheme. LPL paid Mr. Chouinard's clients $1.3 million, and Ms. Egan's office a $150,000 fine.

Since then, Ms. Egan said, little has changed in LPL's compliance culture, letting what she called "egregious problems" go unchecked. The case she is preparing to bring involves brokers who she said improperly sold complicated real estate investment trusts, or non-traded REITs, to unsophisticated investors.

William F. Galvin, the Massachusetts secretary of the commonwealth, came to a $2.5 million settlement with LPL in February for selling the same product to investors in his state. Mr. Galvin said LPL had failed to properly examine who the products were being sold to, and had pushed the investments without mentioning that they provided big commissions to LPL and its brokers.

"What we really saw was a complete lack of supervision," Mr. Galvin said.

In Washington State last year, authorities brought a case against a LPL broker who had sold nontraded REITs to dozens of older clients. Richard Bender, one of 36 clients pursuing an arbitration case against LPL with the lawyer David Gaba, said that he had trusted the broker because of the LPL name on his business cards. Mr. Bender, who said he lost about half his retirement savings, is trying to renew his Teamsters membership so he can drive trucks again.

"I can't enjoy my golden years," he said.

At LPL, business continues to boom. In the latest quarterly results, executives said they had added 182 brokers and increased revenue 14 percent from a year earlier. Because of a decline in profits, though, they said that they were looking at laying off employees in the main office, and outsourcing some of the firm's compliance work.

The chief executive, Mark Casady, told investors that executives were striving for long-term success by "continually challenging ourselves to do things better, faster, and at a lower cost."